China's four large banks' focus on improving asset quality may offset pressure on margins in 2023 as they step up lending to help pull the economy out of a pandemic-induced slowdown.

All four of China's largest lenders by assets posted an improvement in their nonperforming loan (NPL) ratio in their full-year 2022 earnings. Both Industrial and Commercial Bank of China Ltd. (ICBC) and China Construction Bank Corp. reported that their NPL ratios stood at 1.38% as of Dec. 31, 2022, down from 1.42% at Dec. 31, 2021. Over the same period, Agricultural Bank of China Ltd.'s NPL ratio fell to 1.37% from 1.43%, while Bank of China Ltd.'s inched down to 1.32% to 1.33%.

"Most banks remain optimistic about the recovery of consumption and consumer credit, but some noted the pace of recovery moderated somewhat in March," May Yan, head of Greater China financials and equity research at UBS, said in comments emailed to S&P Global Market Intelligence on March 31. While NPLs in retail loans, including mortgages and credit cards, deteriorated in the second half of 2022, Yan expects "a sequential recovery post China reopening."

The four banks reported full-year 2022 net income growth ranging from 3.5% at ICBC to 7.4% at Agricultural Bank of China.

Margins under pressure

The world's second-largest economy has set its 2023 GDP growth target at around 5% after missing the target of 5.5% in 2022. Banks, the main funding source in the country, are expected to heed the government's call to step up lending, which rose to a record high in January. Still, banks' net interest margins (NIMs) are likely to remain under pressure as the People's Bank of China maintains loose monetary conditions.

While earnings growth for the big four Chinese lenders came largely in line with analyst expectations, NIMs continued to decline for three of the four large banks. ICBC posted a 19-basis-point year-over-year decline in its NIM for the 2022 full year to 1.92%, while China Construction Bank's fell 11 basis points to 2.02% and Agricultural Bank of China's declined 22 basis points to 1.90%. Bank of China's NIM for the period rose 1 basis point to 1.76%.

Higher lending with weaker margins can create bad loans, though China Construction Bank expressed confidence that higher provisioning against potential NPLs could cushion the impact.

Zhang Jinliang, president of China Construction Bank, said at a post-earnings briefing March 30 that the lender has adequate ability to cover existing risks of bad loans, even though the NPL ratios in the household and mortgage segments have increased over the past year. Asset quality will stay "reasonable" and credit costs will remain steady in 2023, Zhang added.

Asset quality

"[China Construction Bank] is likely to maintain its healthy earnings and resilient asset quality," S&P Global Ratings analysts wrote in a March 31 note. "We expect its profit expansion over the next 12 months to be led by steady loan volume growth, recovery of fee income, and stabilized asset quality," the note said, adding, however, that continued margin pressure will offset these factors.

For Agricultural Bank, Ratings also expects asset quality to remain stable as a recovery in the property market in second half should alleviate risks in the sector, while its higher-than-peer loan loss provision will cushion the bank against a potential rise in credit default.

Asset quality metrics remained stable at ICBC as a lower corporate NPL ratio offset the increases in property developers and mortgage loans, Nomura Global Markets Research said in a March 30 research note, adding that earnings were dragged by a decline in net interest income and noninterest income.